Here's Why Kalyani Forge (NSE:KALYANIFRG) Can Afford Some Debt

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. As with many other companies Kalyani Forge Limited (NSE:KALYANIFRG) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Kalyani Forge

What Is Kalyani Forge's Debt?

As you can see below, Kalyani Forge had ₹257.2m of debt, at September 2020, which is about the same as the year before. You can click the chart for greater detail. However, because it has a cash reserve of ₹52.3m, its net debt is less, at about ₹204.9m.

How Healthy Is Kalyani Forge's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Kalyani Forge had liabilities of ₹753.7m due within 12 months and liabilities of ₹61.8m due beyond that. Offsetting these obligations, it had cash of ₹52.3m as well as receivables valued at ₹543.4m due within 12 months. So its liabilities total ₹219.8m more than the combination of its cash and short-term receivables.

This deficit isn't so bad because Kalyani Forge is worth ₹527.5m, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Kalyani Forge will need earnings to service that debt. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

In the last year Kalyani Forge had a loss before interest and tax, and actually shrunk its revenue by 46%, to ₹1.4b. That makes us nervous, to say the least.

Caveat Emptor

Not only did Kalyani Forge's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Indeed, it lost a very considerable ₹115m at the EBIT level. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. For example, we would not want to see a repeat of last year's loss of ₹118m. So in short it's a really risky stock. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Be aware that Kalyani Forge is showing 3 warning signs in our investment analysis , and 2 of those are significant...

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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